AMD is still trying to digest ATI acquisition

Deal suffers from bad timing; some predict AMD will make comeback

By

BenjaminPimentel

SAN FRANCISCO (MarketWatch) -- A year after gobbling up ATI Technologies, Advanced Micro Devices Inc. is still reeling from indigestion, and analysts say it remains to be seen if the $5.4 billion deal was worth it.

Still, many are positive on the deal's long-term potential, especially as it may give AMD
AMD, +1.47%
a much-needed boost in its bitter battle with arch-rival Intel Corp.

Two weeks ago, AMD reported a $396 million loss for the third quarter, weighed down by a $120 million charge related to the merger. That stands in sharp contrast to the 43% jump in earnings at Intel
INTC, -0.68%
for the same period.

AMD's stock has also underperformed, losing about 35% of market value so far this year. Intel shares have picked up nearly 30% for the same period.

But the Sunnyvale, Calif.-based chipmaker also told analysts that revenue for it graphics processor business grew 29% sequentially thanks to "robust adoption" of a family of its ATI products.

"Nearly a year after our acquisition of ATI Technologies, the result of the industry change in action is both real and demonstrable," AMD Chairman and CEO Hector Ruiz said on the call.

But the jury is still out on whether the merger will turn AMD into a more powerful player in the computer chip industry, where it is struggling to cope with its much bigger rival, Intel Corp.

Buying ATI was supposed to boost AMD's chances against Intel by offering more sophisticated microprocessors that include more graphics capabilities. It also put AMD in a head-to-head battle with Nvidia Corp.
NVDA, +2.07%
which leads the graphics chips market.

But the marriage hasn't gone as smoothly as expected.

Bad timing

"The merger has not gone well for AMD in the initial 12-month period," said analyst John Dryden of Charter Equity Research, citing AMD's net income decline and bigger debt since the merger.

Dryden said that, prior to the merger, the company had market share of more than 15%, solid profitability, a strong balance sheet and expanding return on equity.

"The downfall is not due entirely to the merger, but the combined actions of taking on larger losses for microprocessor market share gains in conjunction with the timing of the ATI merger," he said.

AMD had been on a roll before buying ATI, scoring big gains against Intel, particularly in the server market where its Opteron microprocessor got rave reviews.

But there was already trouble brewing by the time the AMD-ATI deal closed. AMD swung to a loss in the fourth-quarter of 2006. The red ink was caused partly by a more than $500 million charge in connection with the ATI merger, but another factor was an aggressive counter-offensive from Intel.

"In the first year, the deal looks to have been a bad move," said analyst Doug Freedman of American Technology Research. "But first impressions could lead to wrong long-term conclusions."

A 2009 story?

In fact, some analysts, including Freedman, are looking to more long-term benefits from AMD's purchase of ATI.

In a research note last week, Freedman predicted that "the logic of the AMD-ATI integration will be begin to bear fruit" closer to 2009. That's when the company plans to launch a line of more sophisticated computer chips, as part of its Fusion program.

Freedman also downgraded ATI competitor Nvidia because he sees ATI becoming more competitive in the coming year.

Analyst Suji De Silva of Kaufman Brothers said merging with ATI will not take care of AMD's competitive challenges vis-à-vis Intel, but he said ATI has given the chipmaker more capabilities to compete with the Santa Clara, Calif.-based technology giant.

Dryden also said that while he expects AMD's streak of quarterly losses into late 2008, he said AMD's incorporation of graphics capability into AMD's notebook chips is a positive step. "We look for this to be the initial benefit from the merger ," he said.

Analyst Crawford Del Prete of International Data Corp. said he expects the next two years to be significant for AMD when the company will be "able to bring more integrated products to market [based] on the ATI technology."

"The issue of how wise it is a trade-off between cost and benefit," he said. "I think the benefit will show up over time. Most important of all, AMD has something under its roof which Intel doesn't, which is a first-class graphics developer."

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